A condensed income statement for the Commercial Division of Maxell Manufacturing
ID: 2450798 • Letter: A
Question
A condensed income statement for the Commercial Division of Maxell Manufacturing Inc. for the year ended December 31, 2016, is as follows:
1
Sales
$3,500,000.00
2
Cost of goods sold
2,480,000.00
3
Gross profit
$1,020,000.00
4
Operating expenses
600,000.00
5
Income from operations
$420,000.00
6
Invested assets
$2,500,000.00
Assume that the Commercial Division received no charges from service departments. The president of Maxell Manufacturing has indicated that the division’s rate of return on a $2,500,000 investment must be increased to at least 21% by the end of the next year if operations are to continue. The division manager is considering the following three proposals:
Proposal 1: Transfer equipment with a book value of $312,500 to other divisions at no gain or loss and lease similar equipment. The annual lease payments would exceed the amount of depreciation expense on the old equipment by $105,000. This increase in expense would be included as part of the cost of goods sold. Sales would remain unchanged.
Proposal 2: Purchase new and more efficient machining equipment and thereby reduce the cost of goods sold by $560,000 after considering the effects of depreciation expense on the new equipment. Sales would remain unchanged, and the old equipment, which has no remaining book value, would be scrapped at no gain or loss. The new equipment would increase invested assets by an additional $1,875,000 for the year.
Proposal 3: Reduce invested assets by discontinuing a product line. This action would eliminate sales of $595,000, reduce cost of goods sold by $406,700, and reduce operating expenses by $175,000. Assets of $1,338,000 would be transferred to other divisions at no gain or loss.
1
Sales
$3,500,000.00
2
Cost of goods sold
2,480,000.00
3
Gross profit
$1,020,000.00
4
Operating expenses
600,000.00
5
Income from operations
$420,000.00
6
Invested assets
$2,500,000.00
Explanation / Answer
1) DuPont Formula
ROI = income from operations * sales
sales invested assets
= 420,000/ 3500,000 * 3500,000/2500,000 = 16.8%
or 12% * 1.4 = 16.8%
2) Proposals
3) ROI 21% 22.4% 35%
4) All three
5) 12 * x = 21
x ( turnover) = 1.75
increase required = 1.75 - 1.4 = .35
% increase = .35/1.4 = 25%
Proposal 1 proposal 2 Proposal 3 Sales $3,500,000 $3,500,000 $2,905,000 COGS 2,375,000 $1,920,000 $2,073,300 Gross profit $1,125,000 $1,580,000 $ 831,700 Operating profit 600,000 600,000 425,000 Income from operations 525,000 980,000 406,700 invested assets $2,500,000 $4,375,000 $1,162,000Related Questions
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